Working Capital Management

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Transcript Working Capital Management

Working Capital
A.K.Sharma, DGM(F&A)
Working Capital - Meaning
Working Capital refers to short term
assets of the firm
 Normally denotes investment in current
Working Capital - Concepts
There are two concepts of Working Capital
1. Gross Working Capital – This refers to the
investment in all the current assets.
2. Net Working Capital – This refers to
excess of current assets over current
liabilities.(Difference between Current Assets
and Current Liabilities.)
Working Capital Management
Working Capital Management is
concerned with decisions involving
current assets and current liabilities.
Major thrust, is on the management of
current assets. This is also called short
term financial Management.
Working Capital Management
Working capital management is significant
facet of Financial management. Its importance
stems from two reasons• Investment in current assets represents a substantial
portion of total investment.
• Investment in current assets and the level of current
liabilities have to be geared quickly to changes in sales.
Working Capital Management
Managing Current Assets and Current
Liability involves –
– Arranging short-term financing,
– Negotiating favorable credit terms,
– Controlling the movement of cash,
– Administering accounts receivable, and
– Monitoring the investment in inventories.
Working Capital Management
Characteristics of Current Assets
– Short life span
– Swift transformation into other asset
Working Capital Management
Implications of short life span of working
capital –
– Decisions relating to working capital
management are repetitive and frequent.
– The difference between profit and present
value is insignificant.
Operating Cycle and Working
Operating cycle is the time period
between acquisition of raw materials
and the collection of cash from
receivable. In trading concern operating
cycle begins with procuring of goods to
be sold and ends with realizing cash
from Debtors after the sale of these
Current Assets Cycle
Wages, Salaries,
Maintenance and
other operating exp.
Provision of Services
Accounts receivable
Types of Working Capital
Depending upon the nature of funds blocked,
working capital can be categorised as –
1. Permanent Working Capital – It represents the
minimum amount of investment in current assets that
is deemed necessary for carrying out operations for a
period. It is an investment in the nature of long term,
like that of fixed assets. This is also termed as
‘Regular Working Capital’.
2. Fluctuating Working Capital – It represents
additional assets required at different times during
the operating year to cover any change or variability
from the operations.
Types of Working Capital (Contd.)
3. Seasonal Fluctuating Working Capital –
Additional inventory or other current assets
are held due to the seasonal nature of the
4. Special Fluctuating Working Capital – Extra
funds needed to meet contingencies during
inflationary situation, recession or a strike, or
to take advantage of a bulk discount are
examples of the Special Fluctuating Working
Importance of Working Capital
Working Capital is needed to carry out
manufacturing , administrative, and
distribution function. An adequate level
of working capital is essential for the
profitable operations of every
enterprise. The need for working capital
arises as cash expenditures and cash
receipts are non-synchronous.
Factors Affecting the Working
Length of operating cycle.
Nature of business
Business cycle fluctuation
Seasonal operations
Technology and production cycle
Credit policy
Price level changes
Market competition
Decision Guidelines – Using Ratios in Financial
Statement Analysis
1.Current Ratio =
Current Assets
Current Liability
Measures ability to pay current liabilities
with current assets
2. Quick ratio =
Cash +Short-term investment +
Net Current receivable
Current liabilities
Shows ability to pay
all current liabilities if
they come due
3. Accounts
receivable turnover =
Net Credit Sales
Average net accounts
Measures ability to
collect cash from
credit customers
4. Days’ sales in
Average net accounts
One day’s sales
Shows how many
days’ sales remain in
Accounts Receivable
– how many days it
takes to collect the
average level of